REPORT ON THE B ALANCE OF PAYMENTS

Transcription

1 REPORT ON THE B ALANCE OF PAYMENTS 18 J A N U A RY

2

3

4 Published by the Magyar Nemzeti Bank Publisher in charge: Eszter Hergár H-1 Budapest, Szabadság tér 9. ISSN -877 (print) ISSN -878 (on-line)

5 In accordance with Act CXXXIX of 13 on the Magyar Nemzeti Bank, the primary objective of the MNB is to achieve and maintain price stability and, without prejudice to its primary objective, the central bank is also responsible for maintaining the stability of the financial intermediary system. Developments in the external balance are key to financial stability, as processes relating to the balance of payments allow for conclusions to be drawn concerning the sustainability of economic growth and the relevant risks. Moreover, the analysis of the balance of payments enables earlier identification of economic problems, when they are developing, and thus steps can be taken to avoid such problems. To this end, the Magyar Nemzeti Bank regularly performs comprehensive analyses of the trends relating to Hungary s external balance, examining a number of indicators to assess macroeconomic imbalances and identifying elements and developments which are of critical importance for Hungary s vulnerability. Given the lessons from the financial crisis and the recent period, a country s balance of payments and the trends therein indicating potential dependence on external financing are particularly important in the economic media. Developments in the external balance position are also closely monitored by market participants and analysts. The primary goal of the Report on the Balance of Payments is to inform market participants about the developments in the balance of payments by way of this regular analysis, and thus provide deeper insight into the workings of the economy. This analysis was prepared by the MNB s Directorate Monetary Policy and Financial Market Analysis under the general guidance of Barnabás Virág, Executive Director for Monetary Policy and Economic Analysis. Contributors: Eszter Balogh, Anna Boldizsár, Gabriella Csom-Bíró, Orsolya Csortos, Bence Gerlaki, Zsuzsa Kékesi, Balázs Kóczián, Péter Koroknai and Balázs Sisak. The Report was approved for publication by Deputy Governor Márton Nagy. This Report is based on information for the period ending on 1 December 17.

6

7 SUMMARY Report on the Balance of Payments January 18 Summary In 17, the current account surplus declined due to strengthening domestic demand, while net lending fell more slightly as a result of the rising absorption of EU transfers. The sustained high level of net lending reduced Hungary's external indebtedness, helping to mitigate the economy's external vulnerability. In the third quarter, the current account surplus amounted to 3.9 percent of GDP, which still substantially exceeds the values observed in the countries of the region. Net lending according to the real economy approach fell to. percent of GDP in the third quarter. The underlying reasons for this decline included the decrease in the trade surplus and the rise in the income balance deficit, which was slightly offset by the moderate increase in the transfer balance surplus. The significant decline in the balance of goods surplus stemmed partly from rising imports due to stronger domestic absorption, and partly from the deceleration in exports due to summer factory stoppages, while the services balance surplus also continued to decrease. In the past quarter, growth in the absorption of EU transfers continued, but it still falls short of the level observed in earlier years. In the third quarter, net lending declined in terms of financing as well: in parallel with a major decrease in net external debt, net FDI inflow amounted to more than EUR.7 billion. The substantial outflow of debt liabilities was supported by the banking sector to a larger degree and by the corporate sector to a smaller degree, while the general government's external debt and receivables fell at a similar rate. In line with these developments, external debt ratios as a percentage of GDP continued to decline in 17 as well: net and gross external debt both fell by almost percentage points (with net external debt dropping to 1.1 percent of GDP and gross external debt down to 3.8 percent). In a breakdown by sectors, the banking sector s net external debt decreased to the largest degree, as this sector s external assets exceeded its stock of external liabilities again, owing to the substantial increase in external receivables. Hungary's short-term external debt which is primarily linked to the general government fell to EUR 18.7 billion, and thus the foreign exchange reserves of EUR. billion still significantly exceed the level expected and deemed safe by investors. According to the sectors' saving approach, the sharp decline in net lending was attributable to the fall in the private sector's net lending, while the general government's net borrowing remained moderate. The government's low net borrowing is primarily attributable to increasing revenues from rising consumption and higher employment. In the third quarter, households' holdings of government securities once again increased dynamically, which has a favourable impact on the economy's external vulnerability. In the special topic presented in this report, we examine the factors underlying the decrease in the trade balance in 17. The fall in the current account surplus observed in 17 was linked to a decline in the trade surplus, mainly in the goods balance and to smaller degree in the services balance. The deterioration in the terms of trade due to higher commodity prices contributed to narrowing the trade balance, but the decline can be mostly attributed to volume changes. The decrease in the balance of goods resulted primarily from the stronger import growth, while in the case of services it was due to the fact that export growth lagged behind GDP growth. The decline in the four-quarter balance was mainly caused by the decrease in net machinery exports, and in particular by the larger rise in machinery imports, attributable to the growth in imports of machinery for investment purposes. Thus, on the whole, due to the higher import demand from the expansion of domestic demand, net exports made a negative contribution to growth in 17. On the other hand, in recent quarters the balance of goods decreased not only in Hungary, but also in the other countries in the region, which was attributable to the expansion of domestic demand in most of the countries. 3

8

9 CONTENTS Report on the Balance of Payments January 18 Contents 1 Real economy approach Trade balance 8 1. Income balance Transfer balance 1 1. Regional outlook 13 Financing approach 1.1 Non-debt liabilities 1. Debt liabilities 1 3 Developments in debt ratios Developments in net and gross external debt Developments in short-term external debt Developments in foreign exchange reserves and reserve adequacy Sectors savings approach Special Topic: What is the underlying reason for the decrease in the trade surplus? 7.1 Impact of prices and volumes 9. Impact of exports and imports 3.3 Industry factors 3. Expenditure side factors 3. Regional comparison 3

10

11 REAL ECONOMY APPROACH Report on the Balance of Payments January 18 1 Real economy approach In the real economy approach, the net lending of the Hungarian economy fell to. percent of GDP in 17, while the current account surplus fell to 3.9 percent of GDP. The decline in net lending was primarily due to the lower surplus on the goods and services balance, while this was partially offset by the improvement in the transfer balance. The lower trade balance was mostly linked to the expansion of domestic consumption and gross fixed capital formation. In parallel with this, amidst increasing absorption of EU funds, the improvement in the transfer balance fostered a rise in net lending. Similarly to previous periods, the deficit on the income balance continued to rise, owing to higher profits of non-resident companies and slightly lower compensation of employees. In 17, according to the real economy approach, Hungary's four-quarter net lending fell to. percent of GDP, while the current account surplus fell to 3.9 percent of GDP (Chart 1). According to the seasonally unadjusted figures, net lending in the third quarter amounted to EUR 1.1 billion, as the combined result of surpluses of EUR.8 billion and EUR.3 billion on the current account and the capital account, respectively. The decline in the four-quarter value of the external balance indicators can be explained by similar development as in the previous quarter: the trade surplus decreased and the deficit on the income balance continued to rise, while the impact of these changes was mitigated by a slight improvement in the transfer balance. The decrease in the surplus on the goods and services balance was mostly linked to the rise in domestic absorption items, while the improvement in the transfer balance mainly related to the stronger absorption of EU funds. Chart 1: Developments in the components of net lending* (four-quarter values as a percentage of GDP) Q1 9 Q1 1 Q1 11 Q1 1 Q1 13 Q1 1 Q1 1 Q1 1 Q1 17 Q1 Balance of goods and services Transfer balance Current account Income balance Net lending * Income balance: labour income, income on equity and income on debt. Transfer balance: sum of the capital account and other primary and secondary income. All charts by the MNB unless otherwise indicated

12 MAGYAR NEMZETI BANK Report on the Balance of Payments January Trade balance Similarly to the situation in the second quarter, the decline in the trade surplus can be attributed to the lower goods and services balance (Chart ). The steady decline in the trade surplus, which has been seen from mid-1, continued in the third quarter as well. Initially, this decline was linked to the decrease in the goods surplus, but in the past two quarters developments in the services balance surplus also lowered the trade balance. Despite the decline, at the end of the period under review, the goods and services balance was still high, amounting to 8. percent of GDP, which is well above the values observed in the post-crisis years. The decline in the balance of goods in the third quarter was also attributable to the summer stoppages at the vehicle factories, which was partially offset by a surge in the manufacturing of machinery and metal industry products. In addition, due to the expansion of manufacturing capacity, goods imports rose substantially, which also contributed to the lower balance of goods. The services balance decreased at a similar rate as in the previous quarter, but its level remains high, at around. percent of GDP. Chart : Developments in the balance of trade and its components (four-quarter values as a percentage of GDP) I. I 9. I. I 1. I. I 11. I. I 1. I. I 13. I. I 1. I. I 1. I. I 1. I. I 17. I. I - Balance of goods Balance of goods and services Balance of services Similarly to the previous quarter, the annual real growth rate of exports fell in 17, and the rate was significantly exceeded by the annual growth in imports due to the expansion of domestic demand items (Chart 3). In parallel with capacity expansions in Hungary, the absorption of imports by investments rose in the third quarter, which contributed to faster annual real growth in imports. In addition, the stable rise in household consumption, which affected both semi-durable and durable goods, also fostered real growth in imports in the period under review. By contrast, similarly to the dynamics observed in the previous quarter, export growth declined further, which was partly due to the moderate vehicle manufacturing output resulting from summer factory stoppages. 8

13 REAL ECONOMY APPROACH Report on the Balance of Payments January 18 Chart 3: Annual real growth of exports and imports I. I 9. I. I 1. I. I 11. I. I 1. I. I 13. I. I 1. I. I 1. I. I 1. I. I 17. I. I Source: HCSO, MNB. Difference Exports Imports In line with the import growth, the volume change substantially reduced the trade surplus, while the change in the terms of trade moderately increased the surplus (Chart ). Due to the strong growth in domestic demand items and moderate vehicle manufacturing output, the volume change substantially reduced the surplus on the goods and services balance in the third quarter. On the other hand, the evolution of the terms of trade had a moderately favourable impact on the trade balance, as the combined result of the rise in commodity prices and the price change of machinery equipment, which have a higher weight in exports. For more details on developments in the trade balance, see the special topic in this report. Chart : Developments in balance of trade factors according to GDP (year-on-year) HUF billion HUF billion I. I 9. I. I 1. I. I 11. I. I 1. I. I 13. I. I 1. I. I 1. I. I 1. I. I 17. I. I Source: HCSO. Change in volume Change in trade balance Change in terms of trade 9

14 MAGYAR NEMZETI BANK Report on the Balance of Payments January 18 In the third quarter, the significant expansion of domestic absorption supported GDP growth, while net exports restrained growth (Chart ). Higher household consumption and the rising level of gross fixed capital formation both made a positive contribution to Hungarian economic growth in the third quarter. The dynamic growth in gross fixed capital formation is partly attributable to public investment supported by EU funds, and partly to private sector investment, which rose in parallel with manufacturing capacity expansions. As a result of stronger domestic demand, net exports curbed GDP growth significantly. Chart : Annual growth rate of domestic absorption and contribution of net exports to GDP growth 1 age point Source: HCSO Q1 9 Q1 1 Q1 11 Q1 1 Q1 13 Q1 1 Q1 1 Q1 1 Q1 17 Q1 Contribution of net exports to GDP growth (right scale) Annual increase of domestic absorption -1 1

15 REAL ECONOMY APPROACH Report on the Balance of Payments January Income balance Similarly to the previous periods, the four-quarter deficit on the income balance continued to increase, reaching. percent of GDP (Chart ). In the third quarter, the gradual rise in the income balance deficit, which lasted from the end of last year, continued as the combined result of several factors. In the period under review, the higher income balance deficit was attributable to a larger degree to the rising profit 1 of foreign-owned companies, and to a smaller degree to the decrease in the compensation of employees working abroad for a period shorter than one year. This was partly offset by a small improvement in the interest balance of foreign loans, primarily due to the low yield environment and lower gross external debt. Chart : Developments in the items of the income balance* (four-quarter values as a percentage of GDP ) Q1 9 Q1 1 Q1 11 Q1 1 Q1 13 Q1 1 Q1 1 Q1 1 Q1 17 Q1 * Income balance: labour income, income on equity and income on debt. Equity income Interest paid on intercompany loans Interest paid on external debt Compensation of employees Income balance The profits of foreign-owned companies, as well as the reinvested income shown in the income balance, are based on an estimate for 17, which will be replaced by actual figures based on corporate surveys together with the publication in September

16 MAGYAR NEMZETI BANK Report on the Balance of Payments January Transfer balance In the third quarter, as a result of higher inflows of EU transfers, the transfer balance continued to improve (Chart 7). The absorption of EU transfers declined substantially last year, as the 7-13 programming period ended. Consequently, at the end of the fourth quarter of 1, the transfer balance caused a decrease in net lending. However, from the second quarter, due to the inflow of funds from the new programming period, the transfer balance improved substantially. In the third quarter, the four-quarter value of the net capital transfer inflow from the EU amounted to EUR 1.9 billion, while the inflow of net current transfers was EUR 1. billion. In addition to the higher absorption of EU funds, the lower deficit of other capital transfers also contributed to improving the transfer balance in the period under review, while the balance of other current transfers did not change significantly. Chart 7: Four-quarter changes in the items of the transfer balance (as a percentage of GDP) Q1 9 Q1 1 Q1 11 Q1 1 Q1 13 Q1 1 Q1 1 Q1 1 Q1 17 Q1 EU transfer (net) Other capital transfer Other current transfer Transfer balance

17 REAL ECONOMY APPROACH Report on the Balance of Payments January Regional outlook Similarly to Hungary, in the past quarters net lending has decreased in all of the countries of the region, in part due to the decrease in the balance of goods and in part to the moderate developments in the capital account (Chart 8). With the end the EU's 7-13 programming period, the absorption of EU funds by the countries in the region declined substantially, contributing to the drop in their net lending. The largest fall was observed in Hungary and Slovakia, as these countries had previously recorded the highest inflows of EU funds. In addition, in the past quarters there was also a slight decrease in the balance of goods in the countries of the region (for more details, see the special topic). Despite the fall, Hungary s net lending and current account still exceed the level observed in the countries of the region. Chart 8: Four-quarter net lending of the countries of the region (as a percentage of GDP) * ** ** ** Hungary Czech Rep. Poland Slovakia Current Account Net lending * Data related to Hungary are up to the third quarter of 17. ** Data for the countries of the region are available up to the second quarter of

18 MAGYAR NEMZETI BANK Report on the Balance of Payments January 18 Financing approach Calculated on the basis of the financial account, net lending fell to 3. percent of GDP in the third quarter, as the combined result of the substantial decline in net external debt and larger inflows of non-debt liabilities, reflecting a significant rise in foreign direct investment. The substantial outflow of debt liabilities was driven by the banking sector to a larger degree and by the corporate sector to a smaller degree, while on the basis of transactions, the consolidated general government's net external debt did not change significantly. The decrease in the banking sector's net external debt was achieved in parallel with a significant increase in external assets, which may still have been attributable to the rising volume of the private sector's foreign currency deposits. In 17, according to the financing approach, four-quarter net lending fell short of the real economy approach and amounted to 3. percent of GDP (Chart 9). In addition to net lending calculated on the basis of the real economy approach, the indicator using the financial account also decreased to a similar degree in the period under review, and thus the difference between the two ratios did not change substantially. Net errors and omissions remained slightly above the long-term average, at around percent of GDP. Chart 9: Two types of net lending and Net errors and omissions (four-quarter values as a percentage of GDP) Q1 9 Q1 1 Q1 11 Q1 1 Q1 13 Q1 1 Q1 1 Q1 1 Q1 17 Q1 Net errors and omissions Net lending (financial account approach) Net lending (real economy approach) In the third quarter, net lending calculated according to the financing approach declined significantly, falling to EUR. billion (Chart 1). An outflow of funds was observed only in the case of debt liabilities: Hungary's net external debt shrank by EUR 1. billion as a result of transactions. On the other hand, non-debt liabilities rose by EUR.8 billion in the third quarter, owing to the increase in foreign direct investment. In addition, in the period under review, the inflow of funds related to derivative transactions amounted to EUR. billion, accompanied by a larger increase in receivables. 1

19 FINANCING APPROACH Report on the Balance of Payments January 18 Chart 1: Structure of net lending (unadjusted transactions) Euro billion Net lending - outflow of funds Euro billion Net borrowing - inflow of funds 8 Q1 9 Q1 1 Q1 11 Q1 1 Q1 13 Q1 1 Q1 1 Q1 1 Q1 17 Q1 Transactions related to derivatives Debt-type financing Non-debt type financing Net borrowing (financial account) Net borrowing (current and capital account) Non-debt liabilities In 17, the value of net FDI increased again in Hungary (Chart 11). In order to eliminate the distorting effects, it is advisable to examine the data net of capital-in-transit transactions and the restructuring of the asset portfolio. Based on these data, in the third quarter in contrast to the second quarter the net FDI stock in Hungary rose by more than EUR 7 million based on transactions, with the increase in the investment of foreignowned companies partially offset by the growth in outward investment by resident companies. The FDI inflow of foreign-owned companies was linked almost completely to the large increase in reinvested earnings (partially due to seasonal effects), which was partially offset by the significant decline in inter-company loans. 1

20 MAGYAR NEMZETI BANK Report on the Balance of Payments January 18 Chart 11: Developments in FDI without capital-in-transit transactions (cumulative transactions) Euro billion Euro billion Q1 9 Q1 1 Q1 11 Q1 1 Q1 13 Q1 1 Q1 1 Q1 1 Q1 17 Q1-1 FDI abroad FDI in Hungary: reinvested earnings FDI in Hungary: equity and other capital Net FDI. Debt liabilities In the third quarter, the outflow of debt liabilities accelerated, mostly due to the decrease in the banking sector's net external debt, while developments in corporate sector debt also reduced the debt ratio (Chart 1). In contrast to the trends observed in previous quarters, the banking sector s net external debt increased as a result of transactions in the first two quarters of this year, followed by a decrease of almost EUR 1. billion in the third quarter, primarily due to a sharp rise in external assets. In addition, corporations' net external debt, which fell short of the level observed in earlier periods, decreased by EUR. billion, which was linked in full to the rise in the sector's external assets. On the other hand, the net external debt of the consolidated general government did not change during the quarter: the significant decrease in the sector's external liabilities was offset by the decrease in foreign exchange reserves. 1

21 FINANCING APPROACH Report on the Balance of Payments January 18 Chart 1: Developments in net debt-type financing by sector Euro billion Euro billion Q1 9 Q1 1 Q1 11 Q1 1 Q1 13 Q1 1 Q1 1 Q1 1 Q1 17 Q1 Consolidated government Corporates Banks Debt-type financing Similarly to the trends observed in 1, banks' net external debt declined in the third quarter, due to the significant increase in external assets (Chart 13). The rise in the banking sector's external assets exceeded the value observed in the previous quarter, while liabilities increased only to a small degree. As a result of this, the sector's net external debt declined by EUR 1. billion, following the increase observed in the previous two quarters. The expansion of external assets in the third quarter may have been supported, amongst other things, by the increasing foreign currency deposits of the private sector. Following the significant growth observed in the previous two quarters, the external liabilities of banks rose only moderately, increasing by EUR. billion in the third quarter, which appeared in full in the sector's long-term liabilities. Chart 13: Developments in the banking system s external debt and receivables (cumulative transactions) 1 Euro billion Euro billion Q1 9 Q1 1 Q1 11 Q1 1 Q1 13 Q1 1 Q1 1 Q1 1 Q1 17 Q1 Gross debt Assets Net debt 17

22 MAGYAR NEMZETI BANK Report on the Balance of Payments January 18 The net external debt of the general government consolidated with the MNB did not change significantly in the third quarter (Chart 1). During the period, repayment of the general government's net external debt dropped to almost zero, falling well short of the decrease of almost EUR billion registered in the previous quarter. In, the decline in the general government's external liabilities corresponded to that in assets. The substantial fall in liabilities is primarily attributable to the decline in the margin accounts, which also entailed a drop in foreign exchange reserves, and hence had no effect on net external debt. The absorption of EU transfers reduced the accrual-based liabilities to the EU. On the other hand, the decrease in liabilities was partly offset by a small increase in non-residents' government securities holdings, which occurred in parallel with a rise in forint government securities and the repayment of foreign currency bonds. The drop in foreign currency assets was attributable almost in full to the decline in foreign exchange reserves, mostly resulting from the maturity of a foreign currency bond in July, in addition to the already mentioned margin accounts. Chart 1: Breakdown of net external debt of the general government consolidated with the MNB (cumulative transactions) Euro billion Euro billion 8 Q1 9 Q1 1 Q1 11 Q1 1 Q1 13 Q1 1 Q1 1 Q1 1 Q1 17 Q1 FX bonds Forint bonds EU-IMF loan FX reserves Other assets Other liabilities Net debt inflow

23 DEVELOPMENTS IN DEBT RATIOS Report on the Balance of Payments January 18 3 Developments in debt ratios In 17, the debt ratios of key importance for the assessment of Hungary's external vulnerability continued to decline. Net and gross external debt fell by 1. and.1 percentage points, respectively, and thus the net ratio amounted to 1.1 percent of GDP, while gross external debt amounted to 3.8 percent of GDP at the end of the quarter. The decline in net external debt occurred amidst a more substantial outflow of debt liabilities, but the growth in GDP also supported the reduction of this ratio. In a breakdown by sectors, the net external debt of the banking sector shrank substantially, while the net external debt of the consolidated general government and non-financial corporations decreased to a smaller degree. As a result of the substantial rise in the banking sector's external assets, the sector's external assets once again exceed banks' stock of external liabilities. In the case of corporations, the change both in liabilities and assets resulted in a decrease, while for the general government, with an almost identical decrease of liabilities and assets, the growth in GDP contributed to the decline in the indicator. As regards gross external debt as a percentage of GDP, the larger part of the decrease related to the consolidated general government, but the gross external debt of the private sector also declined to a small degree. Hungary's short-term external debt fell by EUR 1 billion to EUR 18.7 billion, which is fully explained by the decrease in the consolidated general government's short-term external debt. Even with the decrease in foreign exchange reserves to EUR. billion, short-term external debt still substantially exceeds the level expected and deemed safe by investors. 3.1 Developments in net and gross external debt In 17, Hungary's net external debt decreased to 1.1 percent of GDP, due to the outflow of debt liabilities, as well as GDP growth (Chart 1). Net external debt a ratio which is of key importance in terms of the country's external vulnerability dropped to 1.1 percent of GDP by the end of September. Of the three factors taken into consideration, the decrease in the debt ratio was primarily supported by the outflow of debt liabilities, but the growth in nominal GDP also contributed to the decline to a smaller degree; on the other hand, the revaluation of outstanding stocks had no significant impact on the whole: the stock-increasing effect of the yield decrease was offset by the appreciation of the forint against the US dollar. Chart 1: Components of changes in net external debt* (cumulated, GDP-proportionate values, end-7 = ) Q1 9 Q1 1 Q1 11 Q1 1 Q1 13 Q1 1 Q1 1 Q1 1 Q1 17 Q1 Changes in the nominal amount of GDP Revaluation and other changes in volume Debt-type financing Net external debt

24 MAGYAR NEMZETI BANK Report on the Balance of Payments January 18 All sectors contributed to the substantial decrease in net external debt in the third quarter as well (Chart 1). In the banking sector, the decrease in the debt ratio was caused by the significant increase in assets, in the case of corporations, the change both in liabilities and assets resulted in a decrease, while for the general government, amidst an almost identical decrease in liabilities and assets, the growth in GDP contributed to the decline in the indicator. The decrease in the general government's external assets was primarily caused by transactions, in particular by the lower foreign exchange reserves, while the decline in debts is attributable to the decrease in liabilities, linked to the absorption of EU transfers and to the maturity of a foreign currency bond. In 17, gross external debt continued to fall, declining by more than percentage points to reach 3.8 percent of GDP. The lower debt ratio was mostly supported by the outflow of debt liabilities, but as a result of the denominator effect, GDP growth and the appreciation of the forint exchange rate against the US dollar also contributed to the decline. In a breakdown by sectors, the consolidated general governments gross external debt as a percent of GDP fell by 1. percentage points, while that of the private sector fell by. percentage point, with the decrease in the gross external debt of corporations and the banking sector amounting to. and. percentage point, respectively. Chart 1: Net external debt by sectors and gross external debt (relative to GDP, excluding intercompany loans) Q1 9 Q1 1 Q1 11 Q1 1 Q1 13 Q1 Banking sector Corporate sector Gross external debt (r.h.s.) 1 Q1 1 Q1 1 Q1 17 Q1 General government Net external debt -

25 DEVELOPMENTS IN DEBT RATIOS Report on the Balance of Payments January 18 In the third quarter, the banking sector's net external debt once again moved into negative territory: as a result of the substantial growth in assets, the sector's external receivables exceed its external liabilities (Chart 17). The fact that the banking sector's net external debt became negative is primarily attributable to the rise in assets, but gross external liabilities also showed a minor decline. The rising foreign currency deposits of the private sector made a major contribution to boosting the banking sector's external receivables. As a result of the growth in external assets, the sector's net external debt became negative, i.e. the banks' external assets once again exceed the external liabilities of the sector. Chart 17: Developments in the banking sector s external assets and debt (as a percentage of GDP) Q1 9 Q1 1 Q1 11 Q1 1 Q1 13 Q1 1 Q1 1 Q1 1 Q1 Foreign assets of banks Bank net external debt 17 Q1 External debt of banks Developments in short-term external debt After falling by roughly EUR 1.1 billion, short-term external debt amounted to EUR 18.7 billion at the end of the third quarter of 17 (Chart 18). The decrease in short-term external debt can be attributed almost completely to the consolidated general government, while the private sector's short-term external debt did not change significantly: the modest decline in corporations' debt was offset by the rise in banks' debt. In the third quarter, the short-term external debt of the consolidated general government fell by EUR 1.1 billion, which was caused by a large decrease in short-term external debt based on original maturity and by a smaller decline in amortising debt, mostly attributable to the decline in margin accounts and the maturity of a foreign currency bond held by non-residents. 1

26 MAGYAR NEMZETI BANK Report on the Balance of Payments January 18 Chart 18: Developments in gross short-term external debt based on residual maturity Euro billion 8 Q1 9 Q1 1 Q1 11 Q1 1 Q1 13 Q1 1 Q1 1 Q1 1 Q1 Euro billion 17 Q Banking sector Corporate sector General government Short-term external debt 3.3 Developments in foreign exchange reserves and reserve adequacy In 17, the level of foreign exchange reserves decreased, mostly due to the net FX financing need of the government, the change in the margin deposit portfolio related to the Government Debt Management Agency's hedging swap transactions, as well as the foreign currency expenditures of the Government Debt Management Agency and the Hungarian State Treasury. At the end of September 17, international reserves amounted to EUR. billion, reflecting a decline of EUR 1. billion compared to the level at the end of June 17. Changes in the foreign exchange reserves were influenced by a number of factors, of which the key reserve-increasing items were as follows: The net FX financing need of the Government Debt Management Agency reduced the reserves by roughly EUR 7 million. In July, a EUR-denominated foreign currency bond expired in the amount of EUR 7 million; the reserve-reducing effect of this was offset in the amount of almost EUR 13 million by the issuance of the onshore yuan-denominated Panda bond at the end of July. Hungary is the first foreign issuer to issue renminbi bonds both in the domestic market and in the (Hong Kong) foreign market. In the quarter under review, the repayment of foreign currency loans amounted to more than EUR million, while the issuance of the retail foreign currency bonds raised reserves by almost EUR 11 million. The margin deposit, linked to the Government Debt Management Agency's hedging swap transactions, the foreign currency deposits placed by the domestic credit institutions at the MNB, and the rollover of the cross-currency swap transactions reduced the reserves by slightly more than EUR 3 million.

27 DEVELOPMENTS IN DEBT RATIOS Report on the Balance of Payments January 18 Other foreign currency expenditures of the Hungarian State Treasury and the Government Debt Management Agency represented another reserve-decreasing item, which reduced foreign exchange reserves by more than EUR million in total. The reserve-reducing effect of the revaluation resulting from the depreciation of other currencies against the euro was close to EUR 3 million. The September maturity of the swap facilities related to the conversion of households FX loans into forints and the loans granted within the framework of the FX pillar of the third phase of the Funding for Growth Scheme reduced the reserves by EUR million and nearly EUR million, respectively. Contrary to the items reducing the reserves, the EU funds of almost EUR 3 million, received in the third quarter, as well as the rise of almost EUR million in the stock of forint liquidity providing foreign exchange swaps, resulted in an increase in reserves. In addition to the decrease in foreign exchange reserves, short-term external debt also declined substantially by the end of the third quarter, and thus the volume of foreign exchange reserves still considerably exceeded the level expected by investors (Chart 19). In addition to the lower level of foreign exchange reserves compared to the end of last quarter, short-term external liabilities also declined, and thus considering the Guidotti- Greenspan rule which is closely followed by the central bank and the investors the foreign exchange reserve of EUR. billion, recorded at the end of the third quarter of 17, exceeds the volume of short-term external debt, which amounted to EUR 18.7 billion. The room for manoeuvre over the Guidotti-Greenspan indicator was roughly EUR 3. billion at the end of the third quarter, which is still a safe level. Chart 19: Short-term external debt and the stock of foreign exchange reserves of the Hungarian economy Euro billion Euro billion Q1 1 Q1 11 Q1 1 Q1 13 Q1 1 Q1 1 Q1 1 Q1 17 Q1 FX reserves Guidotti rule* 1 * Guidotti rule: short-term external debt based on residual maturity. 3

28 MAGYAR NEMZETI BANK Report on the Balance of Payments January 18 Sectors savings approach In 17, four-quarter net lending according to the economic sectors savings dropped to 3. percent of GDP. The general government borrowing requirement the level of which, similarly to the previous periods, was moderate, but increased slightly compared to the second quarter and the decrease in the net lending of the private sector together resulted in a substantial fall in net lending. Based on the seasonally adjusted data, households' outstanding borrowing increased at a similar rate as in the previous quarter, while the accumulation of financial assets decreased slightly. Despite the maturity of a large volume of household government securities, households continued to expand their government securities portfolio, and the shift towards longer-term securities continued. The rise in the average maturity of household government securities caused a decrease in rollover risk, and thereby a decline in the vulnerability of the economy. Based on the sectors' saving, in 17 the four-quarter net lending of the Hungarian economy fell to 3. percent of GDP (Chart ). The general government's borrowing requirement was moderate in the third quarter as well, which can be explained by the rising tax revenues resulting from higher consumption and employment. The net lending of the corporate sector, which fell short of the level observed in the previous year, can be attributed to the rise in investments: as a result of the continuing growth in investments, corporations' net lending decreased to. percent of GDP in the third quarter. The four-quarter net financial savings of households was around. percent of GDP in the past quarter, which as a consequence of the outstanding borrowing that has been on the rise for more than a year now falls short of the pre-1 level, but still significantly exceeds the pre-crisis values. Chart : Net lending by sectors* (four-quarter data relative to GDP) Q1 9 Q1 1 Q1 11 Q1 1 Q1 13 Q1 1 Q1 1 Q1 1 Q1 17 Q1 Corporate sector Household sector General government Net lending (from the financial account side) * Under general government, we present the borrowing requirement according to the financial accounts. Corporate was determined on the basis of the residual principle.

29 SECTORS SAVINGS APPROACH Report on the Balance of Payments January 18 The underlying trends show that the households' seasonally adjusted net financial savings amounted to. percent of GDP in the third quarter (Chart 1). In the third quarter, the households' seasonally adjusted net new borrowing was around the level of the previous quarter, which is attributable to the steady growth in the housing loan portfolio and to the rise in the FGS and land purchase loans granted to the self-employed. On the other hand, there is still no significant growth in consumer loans. The sector's gross financial instruments rose substantially, increasing by around percent of GDP, in the third quarter as well, which is primarily attributable to the large increase in securities, but the current account deposits and cash holdings also increased substantially. Chart 1: Net lending of households (seasonally adjusted revised* values, as a percentage of GDP) Q1 9 Q1 1 Q1 11 Q1 1 Q1 13 Q1 1 Q1 1 Q1 1 Q1 17 Q1 Net lending Assets Liabilities * Figures showing underlying trends, adjusted for the impact of pension savings, the early repayment scheme and real yield payment, the indemnification of the depositors at liquidated savings cooperatives as well as the forint conversion and settlement. Time series are adjusted separately. -

30 MAGYAR NEMZETI BANK Report on the Balance of Payments January 18 In the third quarter, households' government securities holdings once again grew dynamically, which thus continues to provide substantial support for the internal financing of the general government (Chart ). As a result of the continuous growth in households' holdings of government securities for almost five years, the portfolio came close to HUF,8 billion by 17. Despite the large volume of expiring government securities, the portfolio continued to increase, which suggests that households are not only rolling over their existing government securities holdings, but are also investing a large part of their new savings in government papers. Households continued to show preference for long-term instruments, but in contrast to the previous quarter there was a small increase in the short-term securities of the central government as well. The positive change in the maturity structure of the households' government securities portfolio reduces rollover risk, thereby decreasing the vulnerability of the economy. Although the rise in the forint current account deposits fell short of the value observed in the previous quarter, cash holdings once again rose substantially, and thus on the whole it can be stated that in terms of non-securities instruments, households still show preference to liquid forms of investments. Chart : Developments in households key financial assets (cumulative transactions) HUF billion 8 Q1 9 Q1 1 Q1 11 Q1 1 Q1 13 Q1 1 Q1 1 Q1 1 Q1 HUF billion 17 Q Deposits Goverment securities Mutual funds

31 SPECIAL TOPIC: WHAT IS THE UNDERLYING REASON FOR THE DECREASE IN THE TRADE SURPLUS? Report on the Balance of Payments January 18 Special Topic: What is the underlying reason for the decrease in the trade surplus? Calculated on the basis of the four-quarter data, the trade surplus of the Hungarian economy remains high, but following the significant increase observed in the past years it slightly declined in 17. Nevertheless, it still substantially exceeds the values observed in the countries of the region, i.e. in the Czech Republic, Poland, Slovakia and Romania. The decline in the balance observed in the past quarters was attributable to a larger drop in the balance of goods and to a smaller reduction in the balance of services. The decline in the surplus is partly attributable to the fact that after a lasting improvement in parallel with the rise in commodity prices, the terms of trade slightly worsened the balance starting as early as the second quarter of 17. Developments in the volumes also drove the decrease in the balance: while the decline in the balance of goods was primarily caused by the stronger growth in goods imports, which exceeded exports, the decrease in the balance of services was mostly due to the deceleration of exports. In terms of industries, the decline in net goods exports can primarily be explained by the decrease in the surplus from machinery exports, in addition to a minor drop in fuels: from the end of 1, the growth in machinery imports, particularly that of road vehicles, substantially accelerated, while the growth rate of machinery exports slowed down. The decrease in the external balance may essentially be attributable to the growth in imports of machinery for investment purposes. Due to the moderate price developments, stronger consumption of consumer durables had no significant effect in terms of the deterioration of net goods exports, despite its positive contribution to growth. International comparison shows that the trade balances of the countries in the region also declined in the past quarters. In most of the countries, imports of goods, which rose in parallel with the growth in consumption and import-intensive investments, as well as the deterioration in the terms of trade were the key contributors to the decline. In a breakdown by country, we found that the decrease in Hungary's balance of goods, which occurred in the past one year, can be linked roughly half-and-half to the net exports to the euro area and to regions outside the EU, while the balance against the other EU member states has not changed. The decrease in the four-quarter value of the current account balance observed in 17 was linked with the decline in the trade surplus, which was contributed to by a larger drop in the balance of goods and by a smaller drop in the balance of services (Chart 3). In the past quarter, the current account surplus gradually decreased from the historical high in 1, which primarily reflected the impact of the decline in the trade balance. Since the end of 1, the trade balance as a percentage of GDP has declined by roughly percent, three-quarters of which was attributable to the decrease in goods export, and one-quarter to that in the balance of services. Although the balance of goods already declined in the second half of 1, the increase in the balance of services curbed the decrease in trade surplus until as late as the first quarter of 17. However, from the second quarter of 17 the decline in the balance of services also fostered a decrease in net exports, which accelerated the decrease in the current account surplus. In the next section, we examine the factors underlying the decrease in the trade surplus among others, we present in more details the developments in the Hungarian balance of goods and services and in the main components of those, and also touch upon the processes observed in the region. 7

32 MAGYAR NEMZETI BANK Report on the Balance of Payments January 18 Chart 3: Developments in the balance of trade components (as a percentage of GDP)* Balance of goods Balance of goods and services Balance of services 17 * The 17 data are four-quarter values. 8

33 SPECIAL TOPIC: WHAT IS THE UNDERLYING REASON FOR THE DECREASE IN THE TRADE SURPLUS? Report on the Balance of Payments January 18.1 Impact of prices and volumes The decrease in the four-quarter surplus is partly due to the fact that, after a lasting improvement, the terms of trade already deteriorated slightly starting from the second quarter of 17; however, the deterioration in the balance is mostly attributable to the change in volumes. After 13, the moderate fuel prices and the favourable developments in export prices caused the terms of trade to improve, which contributed to the rise in Hungary's trade surplus (Chart ). However, from the second half of 1, in parallel with the rise in commodity prices, the change in the terms of trades pointed to a decline in the trade balance. This impact was partially offset by the change in the relative price of export products (machinery and transport equipment). In addition, it is also clear that while in the past the volume effect net of the price effects typically raised the trade surplus, in 17 similarly to the period of investment growth in excess of 1 percent observed in 1 it substantially deteriorated the trade surplus. On the other hand, the decrease in volumes may be attributable to both the decline in exports and the increase in imports. Chart : Impact of the change in the terms of trade and in volumes on the trade balance (four-quarter balance) HUF billion HUF billion Q1 9 Q1 1 Q1 11 Q1 1 Q1 13 Q1 1 Q1 1 Q1 1 Q1 17 Q1 Change in terms of trade Balance of goods and services Change in volume Annual change -1 Source: HCSO. 9

34 MAGYAR NEMZETI BANK Report on the Balance of Payments January 18. Impact of exports and imports While the decline in the balance of goods was primarily caused by the stronger growth in goods imports, which exceeded exports, the decrease in the balance of services was mostly due to the deceleration of exports. The decrease in the surplus of the balance of goods in the second half of 1 was linked to slower growth in goods exports resulting from the temporary factory stoppages and declining industrial production due to the model change, while in 17 it can be more attributed to higher goods imports resulting from the vigorous domestic demand (Chart ). The growth in exports was supported by the rise in external demand in 17 as well, while from the second quarter goods import, rising at an accelerating rate in 17, already exceeded the growth in goods exports. The decrease in the balance of services was attributable to the fact that the deceleration in the growth of services export, which has lasted since 1, continued more steeply in 17, while after the decline observed at the end of 1, the rise in services import commenced again. Chart : Annual change in goods and services trade* Q1 7 Q1 8 Q1 9 Q1 1 Q1 11 Q1 1 Q1 13 Q1 1 Q1 1 Q1 1 Q1 17 Q Export of services Export of goods Import of services Import of goods * Growth rates calculated from the EUR-denominated data of the balance of payments. The decline in the balance of services is mostly attributable to the decrease in services exports observed in several sectors (Chart ). Before the crisis, in an environment of similar growth in services exports and imports, the balance of services was around 1-1. percent of GDP. The dynamic growth which commenced after the crisis reflected the rise in incomes, while imports as a percent of GDP have not changed materially thus, the surplus in the balance of services rose to almost percent of GDP. In a breakdown by sectors, the main contributors to growth included the surplus in hired labour services, other business services (e.g. legal and accounting services) and transport services (Chart 7). The decrease in the GDP-proportionate balance observed in the past two quarters took place amidst a nominal increase in exports, i.e. the decline is attributable to the fact that the growth in services exports fell short of GDP growth. The decrease was observed in a wide range of sectors: with the exception of transportation, the surplus of all sectors decreased moderately. 3